Wednesday, November 4, 2015

Albania cuts rate 25 bps to bolster demand and lending

Albania's central bank cut its policy rate by a further 25 basis points to 1.75 percent, saying the return of the economy to equilibrium and inflation to target will take longer than expected, suggesting the "need for stepping up the monetary stimulus in the economy to bolster domestic demand and strengthen the credit channel."
The Bank of Albania, which has now cut its rate by 50 basis points this year following a cut in January, added that its supervisory council "deems that the monetary policy stance will remain accommodative throughout 2016."
In addition to macro-prudential measures in place since 2013 and a swift implementation of measures to prevent and resolve non-performing loans, the central bank added that it was "analyzing the possibility of introducing additional stimulating measures" in line with international experiences.
Albania's inflation rate rose to 2.2 percent in September from 1.9 percent in August, but the central bank expects low inflationary pressures to persist with inflation averaging around 2.0 percent this year and then 2.2 percent in 2016.
Inflation is first expected to return to the bank's 3.0 percent target by the first quarter of 2018.
Albania's economy expanded by an annual 2.5 percent in the second quarter, close to the central bank's forecast, driven by investment while private consumption fell as households saved.
Current data show that growth will be similar in the second half of 2015 and the improve further in the medium term, the bank said.

The Bank of Albania issued the following statement by its governor, Gent Sejko:

"The Albanian economy continues to pursue a positive trajectory. However, aggregate demand, output and employment stand below their potential and medium-term pressures on inflation remain weak. The new economic and financial information has been in line with our projections, but economic growth and credit performance resulted on the downside.

The outcome of the new forecast round points to the conclusion that the expected scenario of future economic and monetary developments has not changed significantly compared to the previous round. In the medium term, the Bank of Albania expects inflation to return gradually to target, corroborated by the progressive improvement of economic growth. However, unlike previous forecasts, current projections suggest that the return of the economy to equilibrium and of inflation to target will require a somewhat longer time. Also, these projections suggest the need for stepping up the monetary stimulus in the economy to bolster domestic demand and strengthen the credit channel.

Therefore, in its meeting, the Supervisory Council decided to reduce the policy rate by 0.25 percentage points. After this reduction, the policy rate is reduced from 2.00% to 1.75%.Following, I will explain in greater detail the underlying reasons and expected outcome.

Inflation is expected to rise progressively in the medium term.

In the third quarter, inflation averaged 1.8%. While the rate was similar to that of the previous quarter, inflation recorded significant fluctuations during the period. These fluctuations were triggered mostly by food prices.

The analysis of available information suggests that, in the short run, low inflationary pressures will persist. Average inflation is expected to range around 2% for 2015, and 2.2% for 2016. In the medium term, inflation is expected to rise and return to Bank of Albania's 3% target by the first quarter of 2018.

The gradual recovery of the economy will be the main factor for the return of inflation to target.

Economic activity stood at 2.5% in the second quarter, being close to our forecasts. Economic growth was driven by investments and improvement in the balance of trade exchanges with abroad. Conversely, private consumption fell attributed to households' stronger propensity to save. Available data suggest that the Albanian economy will register similar growth rates in the second half of 2015. Economic activity in this period will expand driven mostly by the growth in investments and improvements in the trade balance.

The Albanian economy is expected to further improve in the medium term. Economic activity is expected to accelerate driven by the easing of financing standards, reduction of uncertainties and improvement of the external economy. Economic growth will be financed by the use of accumulated private sector savings and foreign capital inflows. Also, the economic activity will expand due to the increasing support with bank loans in the second half of the forecast horizon.

A new monetary impulse will support better consumption, investments and lending.

Albanian financial markets are liquid and stable, but financial agents continue to show low risk appetite and reluctance to finance long-term projects. The accommodative monetary policy implemented by the Bank of Albania has driven the interest rates on loans to the historic minimum and boosted credit demand. In response, the lek credit portfolio continued to show positive performance; the annual growth rate of this portfolio stood at 5.2% in August, and its share in total loans rose to 41%.

Lending, however, remains sluggish, especially in business loans and foreign currency loans. The annual growth of the credit portfolio subdued to around 1% in August. The reduction was dictated by the low business demand for financing and tightened conditions of banks supply for loans. Moreover, the payment of arrears by the public sector has provided an alternative source of liquidity and financing for businesses, introducing an additional temporary effect on the decline of credit demand.

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In conclusion of the analysis and discussions on the outlook, the Supervisory Council evaluates that to achieve Bank of Albania's objectives the monetary stimulus needs to be increased and the stimulating stance needs to be maintained for a longer period than our previous assessments.

Based on these conclusions, the Supervisory Council decided to reduce the policy rate by 0.25 percentage points. After this reduction, the policy rate declines from 2.00% to 1.75%. In accordance with the assessments and projections for the medium term, the Supervisory Council deems that the monetary policy stance will remain accommodative throughout 2016.

The swift implementation of the agreed plan of measures for preventing and resolving non-performing loans is a major priority aimed at reducing the perceived credit risk in Albania. In addition to macro-prudential measures in effect since 2013, in line with recent international experiences, the Bank of Albania is analysing the possibility of introducing additional stimulating measures.

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Finally, the Supervisory Council deems that the monetary stimulus provides the necessary time for conducting structural reforms and mitigates the costs of the reforms on the economy. However, it may not provide for a sustainable long-term economic growth and should not be considered as a substitute for the reforms.

Therefore, the Supervisory Council reiterates the need for the continuation and acceleration of structural reforms. These reforms should aim at sustainably improving the business climate, boosting productivity and competitiveness of the economy, promoting domestic and foreign investments, and enhancing the economic and financial stability in Albania."